Question

​(NPV with varying required rates of return​) Big​ Steve's, a maker of swizzle​ sticks, is considering the purchase of a new plastic stamping machine. This investment requires an initial outlay of ​$150,000 and will generate free cash inflows of $ 18,500 per year for 13 years.

a. If the required rate of return is 5 ​percent, what is the​ project's NPV​?

b. If the required rate of return is 16 ​percent, what is the​ project's NPV​?

c. Would the project be accepted under part ​(a​) or ​(b​)? d. What is the​ project's IRR​?

Answer 1

a.Net present value is solved using a financial calculator. The steps to solve on the financial calculator:

• Press the CF button.
• CF0= -$150,000. It is entered with a negative sign since it is a cash outflow.
• Cash flow for all the years should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the NPV button and enter the required rate of return of 5%.
• Press the down arrow and CPT buttons to get the net present value.

Net present value of cash flows at 5% required rate of return is $23,7871.10.

b.Project B

Net present value is solved using a financial calculator. The steps to solve on the financial calculator:

• Press the CF button.
• CF0= -$150,000. It is entered with a negative sign since it is a cash outflow.
• Cash flow for all the years should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the NPV button and enter the required rate of return of 16%.
• Press the down arrow and CPT buttons to get the net present value.

Net present value of cash flows at 16% required rate of return is -$51,166.82.

c.Project B would be accepted since it has the higher net present value.

d.Project A

Internal rate of return is calculated using a financial calculator by inputting the below:

• Press the CF button.
• CF0= -$150,000. It is entered with a negative sign since it is a cash outflow.
• Cash flow for each year should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the IRR and CPT button to get the IRR of the project.

The IRR of the project is 7.54%

Project B

Internal rate of return is calculated using a financial calculator by inputting the below:

• Press the CF button.
• CF0= -$150,000. It is entered with a negative sign since it is a cash outflow.
• Cash flow for each year should be entered.
• Press Enter and down arrow after inputting each cash flow.
• After entering the last cash flow cash flow, press the IRR and CPT button to get the IRR of the project.

The IRR of the project is 7.54%.

In case of any query, kindly comment on the solution.